As the volume and maturity of offshore outsourcing continues to grow, companies are developing sophisticated location strategies to balance the cost and efficiency of leading offshore locations against their economic, political, and operational risks. During a recent analysis of global delivery center locations, my firm, Red Bridge Strategy, compared locations based on economic factors (i.e., GDP, prices, wages, and growth rates) and differences in the availability of business, technology, language, and management skills. We then evaluated each location’s strategic suitability within our client’s optimal portfolio of offshore locations.
The portfolio approach to offshore location selection differs from traditional, single-country comparisons in that companies can optimize the risks and benefits from multi-location workforces much like investors optimize risk and return with portfolios of stock. Increasingly, companies are developing location portfolio strategies that incorporate “hub” countries with large, low-cost skilled workforces and smaller “spoke” locations that support specialized needs. Balancing a large, scalable operation with niche locations that provide talent (technical, industry, or language) or geographic (regulatory or proximity) needs optimizes the enterprise workforce for a given cost. The optimal offshore location portfolio varies for each company depending on its current and future markets, risk tolerance, process scalability, company culture, and customer needs.
While many factors that influence location-related risks and opportunities are specific to a given company, some of the most significant have broad applicability. These include: (a) whether or not the activities are conducted through captive centers or outside vendors, (b) the size of the offshore workforce, (c) the type of activities undertaken offshore, and (d) the sophistication and governance of the offshored processes.
Captives and Vendors
Operating a portfolio of captive offshore locations requires significantly more investment than directing a network of vendors with offshore locations. Many large, diverse vendors contractually assume some economic, political, and operational risk, and have the scale and procedures to mitigate the risks of any individual country or region. Companies should nevertheless monitor and evaluate the locations of outsourced workers to manage the risk of concentrating too large a portion of their workforces in any one place. Location concentration risk includes geopolitical stability, exposure to natural disasters, and communications infrastructure independence (See White & Case probes service transfer to Eastern Europe; BITS Guide to Concentration Risk in Outsourcing Relationships) and can be magnified by the attendant interest, inflation and exchange rate risks. These risks are far more significant for companies that operate captives because of both the large investments (initial and continuing), and the greater difficulty of transitioning away from captive centers. Other considerations for companies starting captive operations, but less significant for those retaining outsourcing vendors, include the host country business environment, regulations, operating norms, tax incentives (or lack thereof), and the availability of management experience in the region.
Offshore Workforce Size
Traditional offshore location strategies have projected operational economies of scale in countries like India and the Philippines that have large, low cost, well-trained workforces. Companies have typically planned to grow to a minimum of between 1,000 and 2,500 employees in an offshore location in order to operate efficiently. As businesses develop more mature global workforce management capabilities, smaller operations in less typical “offshore” locations have become feasible. Smaller operations are now being justified where niche talents (e.g. language skills or common law training) are available at relatively lower costs. (See e.g. LPO in New Zealand and Israel). While scale is still a significant factor in most location decisions, it is less significant where an offshore hub already exists and additional specialized skills are required.
Determining the optimal locations for offshore activities also depends on the activities to be outsourced. The widest range of IT and BPO skills are available in India; other outsourcing locations have strengths in specific skill sets. The Philippines, for example, is concentrated in the voice and BPO segment. Companies seeking IBM mainframe skills often look to Brazil where these skills are prominent and to Eastern Europe for low cost Western and Eastern European language skills. Again, use of these skills in these locations may logically be incorporated into a portfolio of locations with both scalable hubs in low cost locations and smaller spokes in relatively higher cost locations.
U.S. companies need robust governance and communications protocols and strong process orientations to operate effectively with distant Asian locations such as India or the Philippines. Interactions between individuals and teams are naturally complicated by physical distance and differences in times zones (as well as language and cultural differences). Most India-based outsourcing providers minimize distance complications by creating well defined processes that require fewer and better-defined interactions among team members and managers, and by structuring engagements to include individuals who are comfortable operating as “bridges” between locations. When business processes and communications are less well defined, team members will require more interaction, and overlapping time zones and shorter distances become more important. After considering the lower cost of, and time lost for, travel, near shore locations may be more cost-effective for organizations with less robust process, governance, and communication procedures – even when labor rates are higher than at Asian outsourcing locations.
For most companies, the determination of a “best” offshore location will depend heavily on individual company needs and strategies, and should be influenced by the appropriateness of captive centers for the company, the size of the offshore workforce, the type of activities undertaken offshore, and the sophistication and governance procedures for offshored processes. Companies with medium and large offshore workforces should also develop location portfolio strategies to improve operational efficiency while simultaneously mitigating and managing the risks inherent in global operations.